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How Boomers Can Protect Assets in a Divorce

People in various stages of life have different priorities when it comes to divorce: Younger divorcees tend to focus their energy on child custody while baby boomers consider issues like Social Security benefits, pensions and retirement savings.

J. Peter Doyle,a wealth manager at Huber Financial Group in Buffalo Grove, Ill., provided the following tips and information to divorcing boomers:

Retirement Funds

Retirement assets essentially get split in a divorce. In a situation where the husband was the sole bread winner and over the marriage they have built up retirement assets, lawyers will try to equalize both parties.

If there is a defined benefit pension plan involved in the situation, there is something known as a Qualified Domestic Relations Order (QDRO) that is drawn up by the attorneys for the divorcing parties that says that at retirement, a portion of the pension benefit goes to the other spouse.

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If there is a 401(k) involved, a QDRO may also apply since those assets are on the table and can be included in part of the negotiated settlement. Those assets can be segregated and kept in the existing 401(k) or they can be eligible to be rolled over to the ex wifes IRA.

When funds are received from a defined benefit pension plan, they are taxed as ordinary income. In some states, such as Illinois, retirement income is not taxed at the state level so you are just looking at a federal income tax hit. In the case of a 401(k), that may be split as part of a QDRO that doesn't trigger taxation unless one of the individuals is doing a lump sum distribution, at which time it is all taxed as ordinary income in the year it is received. QDRO distributions are exempt from the 10% early withdrawal penalty for distributions from a qualified plan or an IRA if any of the participants are under age 59 �.

There is a significant deferred tax liability in almost every qualified retirement account that we see. (The one exception is with a Roth IRA which grows tax-free.) The future value of the account would actually be diminished by the income taxes that will be due when distributions occur. The taxes would be assessed at ordinary income tax rates. At distribution, if it is split up and divided into separate accounts as part of divorce settlement that doesn't create an immediate tax liability. Assuming you withdraw it all in one lump sum and that pushes you into the top 35% tax bracket, you would have 65 cents on the dollar left. You want to avoid doing an actual cash out distribution. If you leave the assets in the plan however, they are just retitled with the spouses name next to it as the alternate payee and that won't create a current tax liability.

Alimony

The general rule from a tax perspective is that alimony is deductible by the payer and it is taxable as income for the recipient.

There is a difference between child support and alimonychild support is not taxable or deductible by the payer.

When it comes to determining spousal support, attorneys will look at each persons earning potential and take into account lifestyle to determine the amount. Receiving spouses for alimony will want to build a case that will allow them to maintain the lifestyle to which they have been accustomed to over the years while married.

Social Security

Former spouses would qualify for Social Security based on the ex-spouses earnings if you meet certain criteria. The ex-spouses earnings record is actually used to calculate the spousal benefit. Typically, if it was a non-working spouse they are looking at roughly 50% of what the working spouse would have been receiving at retirement age. If you have multiple ex spouses you could have benefits being paid from more than one working spouse.

Overall Debt

If a person was not the primary bread winner while married, it is important that he or she will be able to establish credit after the split. If things are kind of rocky it might not be a bad idea to take out a credit card in your own name while you are still married. If it is a joint credit card and one spouse is running up significant charges, you want to distance yourself away from that and indicate that you have been paying your own bills from your own account, but you still may be responsible for the charges.